‘Slack’ in Job Market Hurts Wage Growth, Chicago Fed Paper Says

The U.S. labor market still has plenty of unused capacity or “slack,” and that hurts workers at the bottom of the income ladder the most, according to a paper released Friday by two economists from the Federal Reserve Bank of Chicago.

If job market conditions prevalent in 2005 through 2007, before the recession started, had been restored by this summer, the authors estimate, then average real wage growth, adjusted for inflation, would have been 0.5 percentage point to 1 percentage point higher.

“Real wage growth remains disappointing,” writes Daniel Aaronson and Andrew Jordan of the Chicago Fed. “The impact of slack labor market conditions on real wage growth is stronger for those at the bottom of the wage distribution.”

In another measure of weak wage growth, the authors say that the historical relationship between the drop in the unemployment rate and an increase in wages “broke down over the past five years.”

The U.S. jobless rate has fallen from a peak during the recent recession of 10% in October 2009 to 6.2% in July.

The historical relationship between the unemployment rate and real wages would have predicted real wage growth 3.6 percentage points higher by mid-2014, the authors estimate, using Labor Department data. “Instead, wage growth has been relatively flat over the past few years,” they write.

The debate over how much unused productive capacity remains in the economy and the job market are crucial to the Fed’s decision making about when to begin raising interest rates after keeping them at effectively zero since Dec. 2008.

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